Full Disclosure Needed in the Publicity-Traded Cannabis Industry

Share values of publicly traded cannabis stocks have climbed dramatically this year. Excitement over Colorado’s new law as pushed up the price of all cannabis-connected shares to unprecedented levels.

Only a year ago the market enjoyed similar sudden ebullient demand. That ended badly as most stocks in the sector lost at least half their peak value in 2013.

Here are some suggestions for the CEOs and other managers.

First, CEOs of publicly-traded cannabis companies need to acknowledge that the fundamentals of their companies are not THAT impressive relative to the overall marijuana industry.

Investors realize that many of these organizations are in a developmental stage. Still, a serious perception problem developed in 2013 rising from press releases that garnered great attention but were followed with little in the way of accomplishments; too often company spokesmen simply introduced more new initiatives. Two of the better-known companies in the sector famously failed to execute on unrealistic promises made in 2013. Overly optimistic outlooks eventually led to weak share prices of other companies, as well. However, one company, after reporting weak results in the third quarter, dealt squarely with its business challenges, live and online, with appearances by two executives.

Second, investors like it simple. Some corporate structures make it difficult to understand what is going on. Companies with complex capital structures, with insiders using convertible preferred stock, for instance, might reconsider their capital structures for purposes of raising money over the long haul.

Third, cannabis-connected companies trade “over-the-counter.” (Only one – GW Pharmaceuticals – is listed on a major exchange). Many of these OTC companies file with the Securities and Exchange Commission. But some do not, instead trading on the “pink sheets” where reporting requirements are less demanding. Some of thelargest publicly traded companies are traded on the pink sheets, in fact. For much sought credibility, however, these companies should go ahead and execute the necessary filings with the SEC and applicable state securities regulators.

Shareholders are better served with information that the SEC and state regulators require, even if as “pink” companies they are not required to do so. This type of information includes related-party transactions, insider ownership status, pending litigation, and other appropriate disclosures.

Companies in the sector will also increase credibility by regular communications with their shareholders. One example is online forums, inter-active, with questions and answers.

Fourth, the way a company operates gives investors an important signal. For instance, some of the largest companies in terms of market capitalization have not created an independent board of directors even now. Some companies in the space, even more alarmingly, continue to operate with clear and obvious conflicts of interest. Corporate governance of cannabis-connected publicly-held companies will be increasingly important in the years to come.

Investors may well wonder about the true nature of some cannabis- connected companies; several have weak business models; others appear more intent on selling shares than creating sustainable long- term businesses. Repeated stock promotions, with a drum beat of press releases and social media blasts, occurred in 2012 and 2013.

One company began trading publicly following a reverse-merger in mid-2013. It promptly promoted its stock via radio and other ads in several Midwestern states. This company now may be facing regulatory hearings by one or more state securities commissioners. Each state is a member of The National Association of State Securities Administrators (NASSA), with its own rules and regulations. Managers of publicly-held cannabis-connected companies are often surprised to learn of their exposure to state regulators; sometimes the SEC is the least of their problems.

Appropriate corporate governance will help when investor over- optimism eventually abates, assuming it does. Companies get away with a lot in a bull market, but if publicly traded cannabis-related companies want to be taken really seriously, they need to do a better job with full disclosure and with corporate governance.

About Douglas Slain

Doug received a JD from Stanford Law School, a MA from the University of Chicago, and a BA from DePauw University (Phi Beta Kappa). After practicing real estate and finance law at then Pillsbury, Madison & Sutro, he founded four national monthly law reporting titles now owned by Thomson-Reuters. He served two consecutive terms as chairman of the American Bar Association’s General Practice section’s Professional Responsibility Committee.
Slain was an ABA-appointed rule of law consultant to the Ministry of Economy for the Republic of Latvia as its secured transactions adviser. He taught briefly at Stanford Law School as an adjunct clinical law professor.
Slain has been the managing partner of Private Placement Advisors since August 2009. In January 2013 he founded Outliers Network.